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Should You Be Paying Taxes on Your Personal Loans

As you prepare for tax season, you'll need to organize your documentation, including forms for your income, spending, and assets. One question might be ringing in your mind: am I supposed to be filing any paperwork for my personal loans?


What Exactly Are Personal Loans?


A personal loan is a loan that may be used for debt consolidation, home upgrades, a wedding ring, or medical expenditures. The loan might be unsecured, needing only your commitment to repay, or secured, requiring you to submit collateral that the lender can take if you fail to make payments. Personal loans account for a modest portion of total consumer debt in the United States, so some consumers may be unfamiliar with how they work or how the IRS perceives them.


Are Personal Loans Taxable?


Personal loans are typically not taxed since the money you receive is not considered income. You must repay the money you borrow instead of salaries or investment earnings, which you earn and retain.


Personal loans are not required to be reported on your income tax return because they are not a source of income. This is true whether the money was lent to you by a bank, credit union, peer-to-peer lender, or another financial organization.


The Exception: When Personal Loans Can Incur Taxes


Suppose your income or position changes, and you can no longer make your loan payments. In that case, you may end up defaulting on the debt, and some or all of it may eventually be canceled, either via bankruptcy or through a credit management agency. When a loan is canceled, your lender will send you a 1099-c form, which you must submit with your tax return to show how much debt was discharged.


The IRS is concerned because if you do not repay a loan, you are no longer borrowing it and have instead received it as income in the eyes of the tax agency. Assume you borrowed $20,000 and were able to return half of it before defaulting on the loan. If you never plan to repay the remaining $10,000, the IRS will require you to record it as income on your tax return and pay taxes on it.


Are Personal Loan Interest Payments Tax-Deductible?


Finally, one of the most common questions concerning personal loans is whether or not borrowers may deduct the interest they must pay on their loans. Given that personal loan interest rates can be very high compared to mortgage loans and other forms of debt, the option to deduct the interest would be handy in many situations.


Unfortunately, personal loan interest is not typically deductible from taxable income. The rationale for this is the same as why a personal loan is not taxed as income: It's a loan for personal financial reasons, and interest on personal commitments isn't generally deductible.


Conclusion


Before taking out a loan, ask the right questions and think about crucial issues, including the provider's reliability and conditions, such as origination fees, annual percentage rate (APR), and any prepayment penalties. A personal loan may be a smart method to relieve financial stress without negatively influencing your taxes.


When it comes to any loans in general, partnering with the right lender is crucial. At Parkway Finance, we offer a straightforward and transparent process on personal loans so you can make the most of your financial situation. Contact us at 205-853-3339 today!


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